- RIA Advisors’ Michael Lebowitz says stocks are in a bubble.
- He warned that monetary stimulus is what’s holding up the market.
- He said it’s likely that stocks plunge 43% or more sometime over the next two years.
With stocks up an extraordinary 102% since their March 2020 lows, thanks in large part to unprecedented monetary and fiscal stimulus, the hot questions on Wall Street are as follows:
- Are stocks in a bubble?
- If so, what is the extent of the bubble?
- And if stocks are in a bubble, when will it pop?
For Michael Lebowitz, portfolio manager at RIA Advisors, which manages around $1 billion in assets, the answers lie in a comparison to the dot-com bubble.
In recent commentary, he laid out two reasons why stocks are actually in a worse position today than they were during the dot-com bubble in the late 1990s.
The first reason is valuation. The market’s average valuation is extended at the moment by just about any measure you use. Bank of America recently echoed this, saying three-quarters of the valuation indicators it watches are historically high.
The most standard measure — the Schiller price-to-earnings ratio — is right around the level it was during the dot-com bubble.
Then there’s price-to-sales, at an all-time high.
The number of individual stocks trading above a 10x price-to-sales ratio is also at a high.
And there’s the so-called Warren Buffett indicator, market capitalization-to-GDP, hitting record highs as well.
“In 1999, equity valuations stood at unprecedented peaks, even dwarfing those of 1929,” Lebowitz said.
“At the time, investors were euphoric, as if the rally were eternal. Newbies were killing it, and veterans were cleaning up like never before. Some stocks were rising 10, 20, and even 30% or more in a day. Companies adding dot-com to their name or discussing new internet technology saw huge pops in their share prices. Investors bought the narrative with little to no due diligence.”
He added: “Sound familiar? Not only is today’s speculative environment eerily similar to the late ’90s, but valuations, in many cases, are frothier than that period.”
Second, Lebowitz said stocks are worse off today than in 1999 because the economic fundamentals were stronger then than they are now. He laid out the following comparisons:
“Economic and earnings growth rates today are weaker than 20 years ago,” Lebowitz said. “Further, debt levels, measured as a ratio to GDP, are much higher today. Productivity growth and demographics, two significant factors determining economic growth, are weighing on economic growth today. In the ’90s, they were strong economic tailwinds.”
The difference today, Lebowitz said, is that the
is propping up asset prices through its quantitative easing program. But when the Fed pulls back support — which it may have to do to rope in inflation — stocks will fall, he said. After all, a bubble, by definition, occurs when prices are much higher than their underlying fundamentals account for.
But when will the so-called bubble pop? Likely sometime within the next two years, Lebowitz said. And it could be long and drawn out: The dot-com crash of over 40% took a few years to bottom out.
According to a regression analysis looking at 20-year forward returns based on valuations, returns based on 2003 levels would put the S&P 500 at 2,655. That would be about a 43% crash from current levels, around 4,670. But Lebowitz said it could even be worse than that.
“A 43% decline is harsh, but it will only leave the index at fair value based on the last 40 years of CAPE levels. Quite often, markets revert below their means,” he said.
The bigger picture
A number of strategists and money managers share Lebowitz’s views in one way or another.
David Wright, the cofounder and co-portfolio manager of $9.6 billion Sierra Investment Management, told Insider last week that there’s a fifty-fifty chance that stocks already peaked in November. He said he sees a 50% decline ahead.
John Hussman, the president of the Hussman Investment Trust, wrote an unscheduled note to investors in late November because he saw an unprecedented number of internal indicators showing a peak.
Bank of America’s chief US equity strategist Savita Subramanian also said in mid-November that she sees stocks falling 20% over the next 12 months, though her 2022 S&P 500 price target is 4,600, about 1% below its current level. Her peer at Morgan Stanley, Mike Wilson, has a 4,400 target for next year.
Others see the
raging on. They include strategists at Goldman Sachs, Credit Suisse, and RBC Capital Markets, which all have targets at 5,000 or above.
There’s no denying that stocks are extended, as investors have bet big on strong earnings growth ahead. It remains to be seen whether that scenario plays out.
There are reasons to believe it will. Consumer spending is robust — Americans spent more in October than they had in any month ever — and the unemployment rate continues to fall.
But there are signs of weakness. The US added fewer jobs than expected in November, and inflation surged to a 30-year high as supply chains got squeezed.
The inflation spike has caused the Federal Reserve to consider speeding up the tapering of its asset purchases and moving up the timeline of its first rate hike. But it’s uncertain how long inflation will stay elevated.
Lebowitz said the fate of stocks essentially lie with these factors.
“Essentially the real gamble investors are taking is that inflation will be transitory,” he said. “If high inflation is persistent and not transitory, the Fed will find it increasingly challenging to continue current policy.”
He added: “Without the Fed’s enormous
, valuation gravity will reassert itself.”